State Street Corp. looks at the regulatory treatment of SEFs and at other derivatives-clearing issues in a new report and concludes that coming or ongoing changes will transform the over-the-counter derivatives market in at least three ways:
- Standardized work flows, leading to higher straight-through-processing rates;
- Lowered barriers to market participation (this might result in greater liquidity, more competition, and aggregation; and,
- Continuing electronification and the automation of key internal processes.
Along the way, though, State Street makes a fascinating ancillary point. What caught our eye was the news that the old-fashioned FIX protocol still has life in it. Not only is it unlikely to be replaced by the flashier open-source FpML, but on State Street’s account FpML is looking a bit like the Chevy Volt, a one-time ‘wave of the future’ unlikely ever to be the wave of the present.
Change and Anxiety
On May 16th, three months ago, the Commodity Futures Trading Commission met and approved core principle rules for swap execution facilities (SEFs). The CFTC also approved the process for swaps to be made available to trade (MAT).
State Street Corp. (NYSE:STT) contends that many buy-side firms are not prepared for new trading mechanisms, higher costs, and greater complexity. So, the report continues, their anxiety outweighs their interest in the potential improvements that the Dodd-Frank world may bring them.
Boston-based State Street itself operates both as a clearing house and as a swap execution facility. Indeed, it has recently filed registration documents with the CFTC for SwapExSM to become a multi-asset SEF, so it is one of the first movers in the new market. SwapEx is a system that aims to leverage the core technology of State Street’s execution platforms: Currenex, FX Connect, and GovEx.
So, what do State Street’s execs conclude? “The days of the excel spreadsheet are gone, collateral management has moved to the front office and phones have been traded in for exchanges,” the executive vice president of State Street Global Exchange, Jeff Conway, said in releasing the new report, entitled: “From Readiness to Revolution: The Implementation and Impact of Derivatives Clearing Regulatory Reform.”
Roman Numerals
The report employs a recently emerged nomenclature of Roman numerals for the categories of institutions that deal with derivatives. Swap dealers are “category I;” a variety of non-dealer institutions that have already felt the impact of the June announcement are “category II;” and all other market participants are category III. It’s the category III types who have not yet gone through the wringer.
Aite Group, in collaboration with State Street, gathered material from the period May through July 2013 on both traditional asset managers and hedge funds. Survey respondents fit into all three categories, as you can see from the pie chart below.
[Insert Fig. 2, from p. 6 of attached pdf, here.]
Firms that have gone through the deadlines for Categories I and II offer six pieces of advice for firms in Category III, facing a compliance deadline in September: find a good compliance officer; start early; get a CFTC Interim Compliant Identifier (CICI); test intelligently and as much as possible; re-evaluate [and perhaps in the process delay trading in centrally cleared instruments until after the deadline and after the fall0-out is over]; and if still not prepared, find someone who is.
A Fascinating Detail
It is in this context of preparation and re-evaluation that we encounter that fascinating detail about the languages/protocols that will be used throughout the transformed derivatives marketplace:
“While it was once thought that financial products markup language (FpML) messages used in parts of the incumbent OTC derivatives market would proliferate … financial information exchange (FIX) messages, more commonly used for decades in listed markets, are being widely adopted, at best with an FpML payload embedded to define OTC derivatives instruments.”
There was and still in some quarters is much hope for FpML, which is an open source XML standard. Yet the apparently victory of the old standard FIX, with only a “payload” of concessions to the new, seems to be what fills State Street with hope for the markets.
“FIX has a robust legacy for fulfilling electronic transactions and enabling STP in listed markets, and its adoption … is a good sign that STP will grow more prevalent in OTC derivatives, again providing economics of scale as well as mitigating transactional and technology risk.”